Bank Failures, Capital Buffers, and Exposure to the Housing Market Bubble

48 Pages Posted: 6 Aug 2020 Last revised: 15 Dec 2021

See all articles by Gazi Kara

Gazi Kara

Board of Governors of the Federal Reserve System

Cindy M. Vojtech

Board of Governors of the Federal Reserve System

Multiple version iconThere are 2 versions of this paper

Date Written: December 15, 2021

Abstract

We develop housing overvaluation measures that are orthogonal to the local economic conditions and show that banks with greater exposure to such overvalued housing markets have higher mortgage delinquency and charge-off rates and significantly higher probabilities of failure during the crisis of 2007--09 even after controlling for standard bank characteristics. While high house prices relative to fundamentals present a greater likelihood of house price correction, we find no evidence that banks managed this risk by building stronger capital buffers. We also show that orthogonalized overvaluation measures are important in explaining individual mortgage loan defaults and could be used to improve risk management at banks.

Keywords: Residential real estate, bank failure, credit risk, mortgage risk, house price-to-income ratio

JEL Classification: G01, G21, G28, R31

Suggested Citation

Kara, Gazi I. and Vojtech, Cindy M., Bank Failures, Capital Buffers, and Exposure to the Housing Market Bubble (December 15, 2021). FEDS Working Paper No. 2017-115, Available at SSRN: https://ssrn.com/abstract=3656619 or http://dx.doi.org/10.2139/ssrn.3656619

Gazi I. Kara (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Cindy M. Vojtech

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

HOME PAGE: http://https://www.federalreserve.gov/econres/cindy-m-vojtech.htm

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